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What ever happened to the British Pension Scheme? Adrian Waddingham Past Master Worshipful Company of Actuaries Queens University 26th March 2012 … and what will it look like when it comes back? The Worshipful Company of Actuaries

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www.barnett-waddingham.co.uk How I fell into the Profession! Maths and Statistics degree Trained in Liverpool Worked in Malaysia In London since 1985 Barnett Waddingham LLP founded 1989 The Association of Consulting Actuaries IACA The Worshipful Company of Actuaries

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www.barnett-waddingham.co.uk April 1975 Dennis Healey raised income tax 2p The new leader of the opposition Margaret Thatcher castigated it as “equal shares of misery for all” Adrian Waddingham completed his final actuarial examination…. ….and was run off his feet switching poor-performing DC plans into DB plans!

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www.barnett-waddingham.co.uk Good company plans were 1/60 th final salary per year of service of salary less 1.5 times basic state pension NPA 65 (males) 60 (females) Pension increases at discretion No preserved benefits for leavers Probably 50% widows (but member had to be married, and to someone of the opposite sex) And members paid a tax-deductible 5% and the employer paid up to 10% a 2 to 1 subsidy

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www.barnett-waddingham.co.uk The old model Arguably, the old “good” plans were –Fair (if sex discriminatory in part!) –Affordable (most of the time) –Not armour-plated, but usually safe –Moderate!

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www.barnett-waddingham.co.uk The decline of DB  Between 1997 and 2005, employee membership of defined benefit pension schemes fell from 46 to 35 per cent, while membership of defined contribution schemes increased from 10 to 15 per cent. (see www.statistics.gov.uk/cci/nugget.asp?id=1277 )www.statistics.gov.uk/cci/nugget.asp?id=1277  ACA research shows in 1995 there were 5 million employees of private sector firms in open defined benefit schemes. By 2004, the number was down to 2 million. Latest figures show this number is down to below 900,000 and falling.

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www.barnett-waddingham.co.uk Warnings were given… 1988 “Pensions at the crossroads” 2001 “The end of an era” 2003 “Pensions Reform: too little too late” “72% of final salary schemes are now closed” 2002 We are in pensions crisis! Bring on Lord Turner.

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www.barnett-waddingham.co.uk The “Turner” Pensions Commission 1.Pensioners will become poorer relative to the rest of society; or 2.Taxes devoted to pensions must rise; or 3.Savings must rise; or 4.Average retirement ages must rise Lord Turner concluded that society and individuals must choose between four options :

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www.barnett-waddingham.co.uk NPSS: Turner’s 2003 view! “Is (a switch) to DC inevitable? Some say yes…but we can’t be so sanguine. Above a certain level of income and wealth it is reasonable..for people to be exposed to significant risk, there are real issues about increasing numbers of low income people being exposed to high return volatility as state provision becomes more basic and private DB provision retreats. Employers are concluding that (DB) risks are too high and are switching to DC. But we do not need to take the either/or approach. The big problem with DC is the irrational volatility of return. (We can construct) part DB part DC contracts which remove (investment) risk from the individual to the corporate…assure workers a proportion of average salary rather than final salary and which promise it at a retirement age not fixed in advance. We should be encouraging employers to think of these intermediate approaches. If we do not the..the alternative is almost bound to be a shift to DC pure and simple….opposition to retirement age flexibility in DB schemes could kill DB schemes entirely.” (Lord Turner: Staple Inn 2 nd September 2003) HEAR HEAR!

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www.barnett-waddingham.co.uk One sided protection! “Defined Benefit” Backed up by the invested pension fund And employer legally liable if the pension fund is short when it is wound up Members get 90% of their pensions “guaranteed” by the “Pensions Protection Fund (capped at about £30,000pa) “Defined Contribution” Backed up by the invested pension fund  No employer guarantees  Not eligible for the Pensions Protection Fund

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www.barnett-waddingham.co.uk Recent pensions legislation NEST starts this year Reductions to revaluation for deferred pensions from 5% Limited Price Indexation (LPI) to 2.5% LPI. Pension increases downgraded from RPI to CPI (for some schemes only) More detail in relation to NEST including automatic enrolment Individually OK but nothing here to re-engage employers with pensions. No help to fill the space between DB and DC Remember – it is the lower paid who most need good pensions

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www.barnett-waddingham.co.uk Tories: “Providing for Pensions” To restore the health of occupational pensions Ensure adequate security Encourage savings through rewards not penalties Hybrid schemes will be “explored” The age 75 annuity obligation will be reviewed Link state pensions to earnings, paid for by raising ret. age to 66 (2016 for men; 2020 for women) Raise the default retirement age Consider early access to pensions savings (Theresa May – “Politeia 23 Feb 2010)

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www.barnett-waddingham.co.uk And for employers… Reasonable excuses –Existing compliance costs are high –The economic conditions are tough Less reasonable excuses –“Employees don’t value pensions!” –“Sort the public sector out first” –“Employees are too mobile these days” –“It’s the market rate of contribution to DC” …some flexibility is needed to help companies, however

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www.barnett-waddingham.co.uk Paternalistic employers Is paternalism really a dirty word? Good employers do want to do the right thing by their employees! Employees that feel valued and looked after are happier and more productive! Most people don’t want to be on State welfare The effect of the abolition of the “default retirement age” is not yet evident. There are new business reasons to provide employees with good pensions.

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www.barnett-waddingham.co.uk a new UK model DB plan? 1% CARE (i.e. career-average earnings) NRD 68 in 2030 (increase thereafter with longevity) Lump sum accrual on top ( eg 5 x pension) (payable at, say, 65) Conditional pension indexation (fund for them but drop when money is tight. Works this way in the Netherlands) Dependants’ pensions? Should cost 15% of earnings, split 10% e’er and and 5% e’ee. Just as it used to be!